Part 2

1. The “rank outsider” takes it at face value, as bullish.

2. A more experienced trader may say, “If they really wished to get the stocks they would not buy through their own brokers, but would endeavor to conceal their buying by scattering it among other houses.”

3. A still more suspicious professional may turn another mental somersault and say, “They are buying through their own brokers so as to throw us off the scent and make us think someone else is using their brokers as a blind.” By this double somersault such a trader arrives at the same conclusion as the outsider.

The reasoning of traders becomes even more complicated when large buying or selling is done openly by a big professional who is known to trade in-and-out for small profits. If he buys 50,000 shares, other traders are quite willing to sell to him and their opinion of the market is little influenced, simply because they know he may sell 50,000 the next day or even the next hour. For this reason great capitalists sometimes buy or sell through such big professional traders in order to execute their orders easily and without arousing suspicion. Hence the play of subtle intellects around big trading of this kind often becomes very elaborate.

It is to be noticed that this inverted reasoning is useful chiefly at the top or bottom of a movement, when distribution or accumulation is taking place on a large scale. A market which repeatedly refuses to respond to good news after a considerable advance is likely to be “full of stocks.” Likewise a market which will not go down on bad news is usually “bare of stocks.”

Between the extremes will be found long stretches in which capitalists have very little cause to conceal their position. Having accumulated their lines as low as possible, they are then willing to be known as the leaders of the upward movement and have every reason to be perfectly open in their buying. This condition continues until they are ready to sell. Likewise, having sold as much as they desire, they have no reason to conceal their position further, even though a subsequent decline may run for months or a year.

It is during a long upward movement that the “lamb” makes money, because he accepts facts as facts, while the professional trader is often found fighting the advance and losing heavily because of his over-development of cynicism and suspicion.

The successful trader eventually learns when to invert his natural mental processes and when to leave them in their usual position. Often he develops a sort of instinct which could scarcely be reduced to cold print. But in the hands of the tyro this form of reasoning is exceedingly dangerous, because it permits of putting an alternate construction on any event. Bull news either (1) is significant of a rising trend of prices, or (2) indicates that “they” are trying to make a market to sell on. Bad news may indicate either a genuinely bearish situation or a desire to accumulate stocks at low prices.

The inexperienced operator is therefore left very much at sea. He is playing with the professional’s edged tools and is likely to cut himself. Of what use is it for him to try to apply his reason to stock market conditions when every event may be doubly interpreted?

Indeed, it is doubtful if the professional’s distrust of the obvious is of much benefit to him in the long run. Most of us have met those deplorable mental wrecks, often found among the “chairwarmers” in brokers’ offices, whose thinking machinery seems to have become permanently demoralized as a result of continued acrobatics. They are always seeking an “ulterior motive” in everything. They credit—or debit—Morgan and Rockefeller with the smallest and meanest trickery and ascribe to them the most artful duplicity in matters which those “high financiers” wouldn’t stoop to notice. The continual reversal of the mental engine sometimes deranges its mechanism.

Probably no better general rule can be laid down than the brief one, “Stick to common sense.” Maintain a balanced, receptive mind and avoid abstruse deductions. A few further suggestions may, however, be offered:

If you already have a position in the market, do not attempt to bolster up your failing faith by resorting to intellectual subtleties in the interpretation of obvious facts. If you are long or short of the market, you are not an unprejudiced judge, and you will be greatly tempted to put such an interpretation upon current events as will coincide with your preconceived opinion. It is hardly too much to say that this is the greatest obstacle to success. The least you can do is to avoid inverted reasoning in support of your own position.

After a prolonged advance, do not call inverted reasoning to your aid in order to prove that prices are going still higher; likewise after a big break do not let your bearish deductions become too complicated. Be suspicious of bull news at high prices, and of bear news at low prices.

Bear in mind that an item of news usually causes but _one_ considerable movement of prices. If the movement takes place before the news comes out, as a result of rumors and expectations, then it is not likely to be repeated after the announcement is made; but if the movement of prices has not preceded, then the news contributes to the general strength or weakness of the situation and a movement of prices may follow.

III—“They”

If a man entirely unfamiliar with the stock market should spend several days around the Exchange listening to the conversation of all sorts of traders and investors, in order to pick up information about the causes of price movements, the probability is that the most pressing question in his mind at the end of that time would be “Who are ‘They?’”

Everywhere he went he would hear about Them. In the customers’ rooms of the fractional lot houses he would find young men trading in ten shares and arguing learnedly as to what They were to do next. Tape readers—experts and tyros alike—would tell him that They were accumulating Steel, or distributing Reading. Floor traders and members of the Exchange would whisper that they were told They were going to put the market up, or down, as the case might be. Even sedate investors might inform him that, although the situation was bearish, undoubtedly They would have to put the market temporarily higher in order to unload Their stocks.

This “They” theory of the market is quite as prevalent among successful traders as among beginners—probably more so. There may be room for argument as to why this is so, but as to the fact itself there is no doubt. Whether They are a myth or a definite reality, many persons are making money by studying the market from this point of view.

If you were to go around Wall street and ask various classes of traders who They are, you would get nearly as many different answers as the number of people interviewed. One would say, “The house of Morgan”; another, “Standard Oil and associated interests”—which is pretty broad, when you stop to think of it; another, “The big banking interests”; still another, “Professional traders on the floor”; a fifth, “Pools in the various favorite stocks, which act more or less in concert”; a sixth might say, “Shrewd and successful speculators, whoever and wherever they are”; while to the seventh, They may typify merely active traders as a whole, whom he conceives to make prices by falling over each other to buy or to sell.

Indeed, one writer of no small attainments as a student of market conditions believes that the entire phenomena of the New York stock market are under the control of some one individual, who is presumably, in some way or other, the representative of great associated interests.

It seems obviously impossible to trace to its source, tag and identify any sort of permanent controlling power. The stock markets of the world move pretty much together in the broad cyclical swings, so that such a power would have to consist of a world-wide association of great financial interests, controlling all of the principal security markets. The average observer will find it difficult to masticate and swallow this proposition.

The effort to reduce the science of speculation and investment to an impossible definiteness or an ideal simplicity is, I believe, responsible for many failures. A. S. Hardy, the diplomat, who was formerly a professor of mathematics and wrote books on quaternions, differential calculus, etc., once remarked that the study of mathematics is very poor mental discipline, because it does not cultivate the judgment. Given fixed and certain premises, your mathematician will follow them out to a correct conclusion; but in practical affairs the whole difficulty lies in selecting your premises.

So the market student of a mathematical turn of mind is always seeking a rule or a set of rules—a “sure thing” as traders put it. He would not seek such rules for succeeding in the grocery business or the lumber business; he would, on the contrary, analyze each situation as it arose and act accordingly. The stock market presents itself to my mind as a purely practical proposition. Scientific methods may be applied to any line of business, from stocks to chickens, but this is a very different thing from trying to reduce the fluctuations of the stock market to a basis of mathematical certainty.

In discussing the identity of Them, therefore, we must be content to take obvious facts as we find them without attempting to spin fine theories.

There are three senses in which this idea of “Them” has some foundation in fact. First, “They” may be and often are roughly conceived of as the floor traders on the Stock Exchange who are directly concerned in making quotations, pools formed to control certain stocks, or individual manipulators.

Floor traders exercise an important influence on the immediate movement of prices. Suppose, for example, they observe that offerings of Reading are very light. Declines do not induce liquidation and only small offerings of stock are met on advances. They begin to feel that, in the absence of unexpected cataclysms, Reading will not decline much. The natural thing for them to do is to begin buying Reading on all soft spots. Whenever a few hundred shares are offered at a bargain, floor traders snap up the stock.

As a result of this “bailing out” of the market, Reading becomes scarcer still, and traders, being now long, become more bullish. They begin to “mark up prices.” This is not difficult, since they are, for the time being, practically unanimous in a desire for higher prices. Suppose the market is 161⅛ bid, offered at 161¼. They find that only 100 shares are for sale at ¼, and 200 are offered at ⅜. As to how much stock may be awaiting bids at ½ or higher, they cannot be sure, but can generally make a shrewd guess. One or more traders take these offerings, of perhaps 500 shares, and make the market ½ bid. The other floor traders are not willing to sell at this trifling profit, and a wait ensues to see whether any outside orders are attracted by the movement of the price, and if so, whether they are buying or selling orders. If a few buying orders come in, they are filled, perhaps at ⅝ and ¾. If selling appears, the floor traders retire in good order, take the offerings at lower prices, and try it again the next day or perhaps the next hour. Eventually, by seizing every favorable opportunity, they engineer an upward move of perhaps two or three points without taking any more stock than they want.

If such a movement attracts a following, it may easily run ten points without any real change in the prospects of the Reading road—though the prospects of the road may have had something to do with making the stock scarce before the movement started. On the other hand, if large offerings of stock are encountered at the advance, the boomlet is ignominiously squelched and the floor traders make trifling profits or losses.

Pools are not so common as most outsiders believe. There are many difficulties and complications to be overcome before a pool can be formed, held together, and operated successfully, as we had ample opportunity to observe not long ago in the case of Hocking Coal & Iron. But if a definite pool exists in any stock, its operations are practically a reproduction, on a larger scale and under a binding agreement, of the methods employed by floor traders over a smaller range and in a mere loose and voluntary association resulting from their common interests. And the individual manipulator is only a pool consisting of one person.

Second, many conceive “Them” as an association of powerful capitalists who are running a campaign in all the important speculative stocks simultaneously. It is safe to say that no such permanent and united association exists, though it would be hard to prove such a statement. But there have been many times when a single great interest was practically in control of the market for a time, other interests being content to look on, or to participate in a small way, or to await a favorable chance to take the other side.

The “Standard Oil crowd,” the “Gates crowd,” the “Morgan interests,” and Harriman and his associates, will at once occur to the reader as having been, at various times in the past, in sole control of an important general campaign. At present the great interests are generally classified into three divisions—Morgan, Standard Oil, and Kuhn-Loeb.

A definite agreement among such interests as these would be impossible, except for limited and temporary purposes. This is perhaps not so much because these high financiers couldn’t trust each other, as it is because each so-called interest consists of a loosely bound aggregation of followers of all sorts and varieties, having only one thing in common—control of capital. Such an “interest” is not an army, where the traitor can be court-martialed and shot; it is a mob, and has to be led, not driven. True, the known traitor might be put to death, financially speaking, but in stock market operations the traitor cannot, as a rule, be known. Unless his operations are of unusual size, he can successfully cover his tracks.

From this second point of view, “They” are not always active in the market. Great campaigns can only be undertaken with safety in periods when the future is to a certain extent assured. When the future is in doubt, when various confusing elements enter into the financial and political situation, leading financiers may be quite content to confine their stock market operations to individual deals, and to postpone the inauguration of a broad campaign until a more solid foundation exists for it.

Third, “They” may be conceived simply as speculators and investors in general—all that miscellaneous and heterogeneous troop of persons, scattered over the whole world, each of whom contributes his mite to the fluctuations of prices on the Stock Exchange. In this sense there is no doubt about the existence of Them, and They are the court of last resort in the establishment of prices. To put it another way, these are the “They” who are the ultimate consumers of securities. It is to Them that everybody else is planning, sooner or later, directly or indirectly, to sell his stocks.

You can lead the horse to water, but you can’t make him drink. You or I or any other great millionaire can put up prices, but you can’t make Them buy the stocks from you, unless They have the purchasing power and the purchasing disposition. So there is no doubt that here, at any rate, we have a conception of Them which will stand analysis without exploding.

In cases where a general campaign is being conducted, the “They” theory of values is of considerable help in the accumulation or distribution of stocks. In fact, in the late stages of a bull campaign the argument most frequently heard is likely to be something as follows: “Yes, prices are high and I can’t see that future prospects are especially bullish—but stocks are in strong hands and They will have to put them higher to make a market to sell on.” Some investors make a point of dumping over all their stocks as soon as this veteran war-horse of the news brigade is groomed and trotted out. Likewise, after a prolonged bear campaign, we hear that somebody is “in trouble” and that They are going to break the market until certain concentrated holdings are brought out.

All this is very likely to be nothing but dust thrown in the eyes of that most gullible of all created beings—the haphazard speculator. When prices are so high in comparison with conditions that no sound reason can be advanced why they should go higher, a certain number of people are still induced to buy because of what They are going to do. Or, at least, if the public can no longer be induced to buy in any large volume, it is prevented from selling short for fear of what They may do.

The close student of the technical condition of the market—by which is meant the character of the long and short interests from day to day—is pretty sure to base his operations to a considerable extent on what he thinks They will do next. He has in mind Them as described in the first classification above—floor traders, pools and manipulators. He gets a good deal of help from this conception, crude as it may appear to be—largely, no doubt, because it serves to distract his mind from current news and gossip, and to prevent him from being too greatly influenced by the momentary appearance of the market.

When the market looks weakest, when the news is at the worst, when bearish prognostications are most general, is the time to buy, as every schoolboy knows; but if a man has in mind a picture of a flood of stocks pouring out from the four quarters of the globe, with no buyers, because of some desperately bad news which is just coming over the ticker, it is almost a mental impossibility for him to get up the courage to plunge in and buy. If, on the other hand, he conceives that They are just giving the market a final smash to facilitate covering a gigantic line of short stocks, he has courage to buy. His view may be right or wrong, but at least he avoids buying at the top and selling at the bottom, and he has nerve to buy a weak market and sell a strong one.

The reason for the haziness of the “They” conception in the average trader’s mind is that he is only concerned with Them as They manifest Themselves through the stock market. As to who They are he feels a mild and detached curiosity; but as to Their manifestations in the market he is vitally and financially interested. It is on the latter point, therefore, that he concentrates his thoughts.

But inasmuch as definite, painstaking analysis of a situation is always better than a hazy general notion of it, the trader or investor would do much better to rid his mind of Them. The word “They” means nothing until it has an antecedent; and to use it continually without having any antecedent in mind is slipshod language, which stands for slipshod thinking. They, in the sense of the big banking interests, may be working directly against Them in the sense of individual manipulators; the manipulator, again, may be trying to trap Them in the sense of floor traders.

A genuine knowledge of the technical condition of the market cannot be summed up in any offhand declaration about what They are going to do. You cannot determine the attitude toward the market of every individual who is interested in it, but you can roughly classify the sources from which buying and selling are likely to come, the motives which are likely to actuate the various classes, and the character of the long interest and short interest. In brief, after enough study and observation, you can always have in mind some kind of an antecedent for Them, and must have it, if you base your operations on technical conditions.

IV—Confusing the Present with the Future—Discounting

It is axiomatic that inexperienced traders and investors, and indeed a majority of the more experienced as well, are continually trying to speculate on past events. Suppose, for example, railroad earnings as published are showing constant large increases in net. The novice reasons, “Increased earnings mean increased amounts applicable to the payment of dividends. Prices should rise. I will buy.”

Not at all. He should say, “Prices _have risen_ to the extent represented by these increased earnings, unless this effect has been counterbalanced by other considerations. Now what next?”

It is a sort of automatic assumption of the human mind that present conditions will continue, and our whole scheme of life is necessarily based to a great degree on this assumption. When the price of wheat is high farmers increase their acreage because wheat-growing pays better; when it is low they plant less. I remember talking with a potato-raiser who claimed that he had made a good deal of money by simply reversing the above custom. When potatoes were low he had planted liberally; when high he had cut down his acreage—because he reasoned that other farmers would do just the opposite.

The average man is not blessed—or cursed, however you may look at it—with an analytical mind. We see “as through a glass darkly.” Our ideas are always enveloped in a haze and our reasoning powers work in a rut from which we find it painful if not impossible to escape. Many of our emotions and some of our acts are merely automatic responses to external stimuli. Wonderful as is the development of the human brain, it originated as an enlarged ganglion, and its first response is still practically that of the ganglion.

A simple illustration of this is found in the enmity we all feel toward the alarm clock which arouses us in the morning. We have carefully set and wound that alarm and if it failed to go off it would perhaps put us to serious inconvenience; yet we reward the faithful clock with anathemas.

When a subway train is delayed nine-tenths of the people waiting on the platforms are anxiously craning their necks to see if it is coming, while many persons on it who are in danger of missing an engagement are holding themselves tense, apparently in the effort to help the train along. As a rule we apply more well-meant, but to a great extent ineffective, energy, physical or nervous, to the accomplishment of an object, than analysis or calculation.

When it comes to so complicated a matter as the price of stocks, our haziness increases in proportion to the difficulty of the subject and our ignorance of it. From reading, observation and conversation we imbibe a miscellaneous assortment of ideas from which we conclude that the situation is bullish or bearish. The very form of the expression “the situation is bullish”—not “the situation will soon become bullish”—shows the extent to which we allow the present to obscure the future in the formation of our judgment.

Catch any trader and pin him down to it and he will readily admit that the logical moment for the highest prices is when the news is most bullish; yet you will find him buying stocks on this news after it comes out—if not at the moment, at any rate “on a reaction.”